Analysis of the Capital Asset Pricing Model: Application to General Electric Performance

Abstract

In the world of investment, the essential question is, to what degree does the risk of a security influence its expected return? The Capital Asset Pricing Model (CAPM) helps in answering this question. CAPM showed that the risk which can be spread away when seized together with other investments in a particular portfolio should not affect asset price. The adequacy of the CAPM theory as a measurement tool of the relationship between a security’s beta and the expected return of a security is now seriously challenged as it has a set of assumptions that are mostly criticized by their absence in reality. This research re-examines these assumptions (markets are ideal, all investors are averse to risk, markets are highly efficient, Beta coefficient is the only measure of risk and markets are in equilibrium) by applying them to measure the performance of General Electric between March 2017 and March 2020. The methodology adopted in this study is quantitative approach. The main finding of this research indicates that the risk-free rate decreased, the risk increased and the expected return moved up and down in each year. Therefore, the failure of the CAPM in empirical tests implies that most applications of the model are invalid.